Calculate ROE with Retention Rate Formula

B

By definition: growth, g = retention rate x ROE

The correct answer is B. growth, g.

The formula provided in the question is:

________ = Retention Rate x Return on Equity

Let's break down the components of this formula and explain their meanings:

1. Retention Rate: Retention rate refers to the portion of earnings that a company retains and reinvests back into the business instead of distributing it as dividends to shareholders. It is calculated as (1 - Dividend Payout Ratio). A higher retention rate indicates that the company is reinvesting more profits to fuel future growth.

2. Return on Equity (ROE): Return on Equity is a financial ratio that measures the profitability of a company's equity. It indicates how efficiently a company is generating profits from the shareholders' investments. It is calculated as Net Income / Shareholders' Equity. ROE reflects the company's ability to generate profits from the money invested by shareholders.

Now let's apply these explanations to the formula:

Retention Rate x Return on Equity

The multiplication of the retention rate and the return on equity implies that we are considering the effect of both factors on an unknown variable denoted by "________."

Option B, growth (g), represents the growth rate of the company. In finance, growth refers to the rate at which a company's earnings, dividends, or other metrics are expected to increase over time. By multiplying the retention rate and return on equity, we are essentially calculating the growth rate of the company. This makes sense since a higher retention rate and a higher return on equity would contribute to a higher growth rate.

The formula can be rewritten as:

Growth (g) = Retention Rate x Return on Equity

Therefore, the correct answer to the question is B. growth (g).